Question

Under the allowance method for uncollectible accounts, the balance of allowance for uncollectible accounts increases when?

1) future bad debts are estimated.
2) never
3) bad debts actually occur.
4) cash is received from customers.

Answer 1

Under the allowance method for uncollectible accounts, the balance in the allowance for uncollectible accounts increases when future bad debts are estimated, not when they actually occur or when cash is received.

Step-by-step explanation:

The balance of Allowance for Uncollectible Accounts increases when future bad debts are estimated. This is a contra-asset account on the balance sheet that is used to create a credit balance which offsets the accounts receivable balance. When a company estimates that some debts will not be collected, this estimation is recorded as a bad debt expense on the income statement, and the allowance for uncollectible accounts is increased accordingly.

This methodology is known as the allowance method for accounting for uncollectible accounts. It is important to distinguish between the estimation and the actual occurrence of bad debts. The balance in the allowance for uncollectible accounts increases at the time future bad debts are estimated, not when they actually occur. This method is rooted in the matching principle, which states that expenses should be recorded during the period in which they are incurred in order to generate revenue, rather than when payment is made or received.